Caii Brm Module CD Ravi

7/30/2019 Caii Brm Module CD Ravi

1/53

INDIAN INSTITUTE OFBANKING & FINANCE

RISK MANAGEMENT

MODULE C & D

BYM.Ravindran

[email protected]


2/53

Syllabus

Module C: Treasury Management:Treasury management; concepts and functions; instruments in the

treasury market; development of new financial products; control

and supervision of Treasury management; linkage of domestic

operations with foreign operations.

Asset-liability management; Interest rate risk; interest rate futures;

stock options; debt instruments; bond portfolio strategy; risk

control and hedging instruments.

InvestmentsTreasury billsMoney markets instruments such

as CDs, CPs, IBPs; Securitisation and Forfaiting; Refinance andrediscounting facilities.


3/53

Syllabus

Module D: Capital Management and ProfitPlanning

Prudential Norms- Capital Adequacy-Basel II-

Asset Classification-provisioning Profit and Profitability-Historical Perspective of

the Approach of Banks to profitability-Effects ofNPA on profitability-A profitability Model-Shareholders value Maximization & EVA-ProfitPlanning-Measures to improve profitability


4/53

RISK MANAGEMENTModule C-Treasury

Management

Treasury Products

Treasury Risk Management

Derivative Products


5/53

Integrated Treasury

Integrated Treasury refers to integration ofmoney market, securities market and foreignexchange operations.-Meeting reserve requirements

-Efficient merchant services-Global cash management-Optimizing profit by exploiting marketopportunities in forex market, money market

and securities market-Risk management-Assisting bank management in ALM


6/53

Treasury

Function Responsible for

Frontoffice

Dealing

Mid-

Office

Risk management,

accounting andmanagementinformation

Back

office

Confirmations,

settlement andreconciliation


7/53

FRONT OFFICE

BACK OFFICEMID OFFICE

Dealing

MIS

settlement


8/53

Treasury


9/53

Money Market

Certificate of Deposit (CD)

Commercial Paper (C.P)

Inter Bank Participation Certificates Inter Bank term Money

Treasury Bills

Call Money


10/53

Certificate of Deposit

CDs are short-term borrowings in the form ofUsance Promissory Notes having a maturity ofnot less than 15 days up to a maximum of one

year. CD is subject to payment of Stamp Duty under

Indian Stamp Act, 1899 (Central Act)

They are like bank term deposits accounts.Unlike traditional time deposits these are freelynegotiable instruments and are often referred toas Negotiable Certificate of Deposits


11/53

Features of CD

CDs can be issued by all scheduled commercialbanks except RRBs

Minimum period 15 days

Maximum period 1 year

Minimum Amount Rs 1 lac and in multiples ofRs. 1 lac

CDs are transferable by endorsement CRR & SLR are to be maintained

CDs are to be stamped


12/53

Commercial Paper

Commercial Paper (CP) is an unsecuredmoney market instrument issued in theform of a promissory note.

Who can issue Commercial Paper (CP)Highly rated corporate borrowers, primary

dealers (PDs) and satellite dealers (SDs)

and all-India financial institutions (FIs)


13/53

Eligibility for issue of CP

a) the tangible net worth of the company, as per thelatest audited balance sheet, is not less than Rs. 4

crore;b) (b) the working capital (fund-based) limit of the

company from the banking system is not less thanRs.4 crore

c) and the borrowal account of the company isclassified as a Standard Asset by the financingbank/s.


14/53

Rating Requirement

All eligible participants should obtain the creditrating for issuance of Commercial Paper

Credit Rating Information Services of India Ltd.(CRISIL)

Investment Information and Credit RatingAgency of India Ltd. (ICRA)

Credit Analysis and Research Ltd. (CARE) Duff & Phelps Credit Rating India Pvt. Ltd. (DCR

India) The minimum credit rating shall be P-2 of

CRISIL or such equivalent rating by otheragencies


15/53

Maturity

CP can be issued for maturities between aminimum of 15 days and a maximum uptoone year from the date of issue.

If the maturity date is a holiday, thecompany would be liable to makepayment on the immediate preceding

working day.


16/53

To whom issued

CP is issued to and held by individuals,banking companies, other corporatebodies registered or incorporated in India

and unincorporated bodies, Non-ResidentIndians (NRIs) and Foreign InstitutionalInvestors (FIIs).


17/53

Repo

Uses of RepoIt helps banks to invest surplus cashIt helps investor achieve money market returns

with sovereign risk.It helps borrower to raise funds at better rates

An SLR surplus and CRR deficit bank can use theRepo deals as a convenient way of adjusting

SLR/CRR positions simultaneously.RBI uses Repo and Reverse repo as instrumentsfor liquidity adjustment in the system


18/53

Meaning of Repo

It is a transaction in which two parties agree tosell and repurchase the same security. Undersuch an agreement the seller sells specifiedsecurities with an agreement to repurchase thesame at a mutually decided future date and aprice

The Repo/Reverse Repo transaction can only bedone at Mumbai between parties approved byRBI and in securities as approved by RBI(Treasury Bills, Central/State Govt securities).


19/53

Coupon rate and Yield

The difference between coupon rate andyield arises because the market price of asecurity might be different from the face

value of the security. Since couponpayments are calculated on the face value,the coupon rate is different from the

implied yield.


20/53

Example

10% Aug 2015 10 year Govt Bond

Face Value RS.1000

Market Value Rs.1200 In this case Coupon rate is 10%

Yield is 8.33%


21/53

Call Money Market

The call money market is an integral part ofthe Indian Money Market, where the day-to-day surplus funds (mostly of banks) are

traded. The loans are of short-termduration varying from 1 to 14 days.

The money that is lent for one day in thismarket is known as "Call Money", and if itexceeds one day (but less than 15 days) itis referred to as "Notice Money".


22/53

Call Money Market

Banks borrow in this market for thefollowing purpose

To fill the gaps or temporary mismatches

in funds To meet the CRR & SLR mandatory

requirements as stipulated by the Central

bank To meet sudden demand for funds arising

out of large outflows.


23/53

Factors influencing interestrates

The factors which govern the interest rates aremostly economy related and are commonlyreferred to as macroeconomic factors. Some ofthese factors are:

1) Demand for money2) Government borrowings3) Supply of money4) Inflation rate

5) The Reserve Bank of India and the Governmentpolicies which determine some of the variablesmentioned above.


24/53

Gilt edged securities

The term government securities encompass allBonds & T-bills issued by the Central

Government, and state governments. Thesesecurities are normally referred to, as "gilt-edged" as repayments of principal as well asinterest are totally secured by sovereign

guarantee.


25/53

Treasury Bills

Treasury bills, commonly referred to as T-Billsare issued by Government of India against theirshort term borrowing requirements with

maturities ranging between 14 to 364 days.All these are issued at a discount-to-face value.For example a Treasury bill of Rs. 100.00 facevalue issued for Rs. 91.50 gets redeemed at the

end of it's tenure at Rs. 100.00.


26/53

Who can invest in T-Bill

Banks, Primary Dealers, StateGovernments, Provident Funds, FinancialInstitutions, Insurance Companies, NBFCs,FIIs (as per prescribed norms), NRIs &OCBs can invest in T-Bills.


27/53

What is auction of Securities

Auction is a process of calling of bids withan objective of arriving at the market price.It is basically a price discovery mechanism


28/53

Debenture

A Debenture is a debt security issued by acompany (called the Issuer), which offersto pay interest in lieu of the money

borrowed for a certain period. These are long-term debt instruments

issued by private sector companies. Theseare issued in denominations as low as Rs1000 and have maturities rangingbetween one and ten years.


29/53

Difference between debenture andbond

Long-term debt securities issued by theGovernment of India or any of the StateGovernments or undertakings owned by

them or by development financialinstitutions are called as bonds.Instruments issued by other entities are

called debentures.


30/53

Current yield

This is the yield or return derived by the investoron purchase of the instrument (yield related topurchase price)It is calculated by dividing the coupon rate bythe purchase price of the debenture. For e. g: Ifan investor buys a 10% Rs 100 debenture of

ABC company at Rs 90, his current Yield on the

instrument would be computed as:Current Yield = (10%*100)/90 X 100 , That is11.11% p.a.


31/53

Primary Dealers & SatelliteDealers

Primary Dealers can be referred to as MerchantBankers to Government of India, comprising the

first tier of the government securities market.Satellite Dealers work in tandem with thePrimary Dealers forming the second tier of themarket to cater to the retail requirements of the

market.

These were formed during the year 1994-96 tostrengthen the market infrastructure

What role do Primary Dealers


32/53

What role do Primary Dealersplay?

The role of Primary Dealers is to;(i) commit participation as Principals inGovernment of India issues through

bidding in auctions(ii) provide underwriting services(iii) offer firm buy - sell / bid ask quotes

for T-Bills & dated securities(v) Development of Secondary DebtMarket


33/53

OMO

OMO or Open Market Operations is amarket regulating mechanism oftenresorted to by Reserve Bank of India.

Under OMO Operations Reserve Bank ofIndia as a market regulator keeps buyingor/and selling securities through it's openmarket window. It's decision to sell or/and

buy securities is influenced by factors suchas overall liquidity in the system,


34/53

YIELD CURVE

The relationship between time and yieldon a homogenous risk class of securities is

called the Yield Curve. The relationshiprepresents the time value of money -showing that people would demand apositive rate of return on the money theyare willing to part today for a payback intothe future


35/53

SHAPE OF YIELD CURVE

A yield curve can be positive, neutral or flat. Apositive yield curve, which is most natural, is whenthe slope of the curve is positive, i.e. the yield at thelonger end is higher than that at the shorter end of the

time axis. This results, as people demand highercompensation for parting their money for a longertime into the future. A neutral yield curve is thatwhich has a zero slope, i.e. is flat across time. T his

occurs when people are willing to accept more or lessthe same returns across maturities. The negative yieldcurve (also called an inverted yield curve) is one ofwhich the slope is negative, i.e. the long term yield is

lower than the short term yield


36/53

LIBOR

LIBOR stands for the London Interbank OfferedRate and is the rate of interest at which banksborrow funds from other banks, in marketablesize, in the London interbank market.

LIBOR is the most widely used "benchmark" orreference rate for short term interest rates. It is

compiled by the British Bankers Association as afree service and released to the market at about11.00[London time] each day.


37/53

CRR & SLR

The minimum and maximum levels of CRR areprescribed at 3% and 20% of demand and termliabilities (DTL) of the bank, respectively, under

Reserve Bank of India Act of 1934. Theminimum and maximum SLR are prescribed at25% and 40% of DTL respectively, underBanking Regulation Act of 1949. The CRR and

SLR are to be maintained on fortnightly basis.The RBI is authorized to increase or decreasethe CRR and SLR at its discretion.


38/53

Demand and Time Liabilities

Main components of DTL are:

Demand deposits (held in current and savingsaccounts, margin money for LCs, overdue fixeddeposits etc.)

Time deposits (in fixed deposits, recurring deposits,reinvestment deposits etc.)

Overseas borrowings

Foreign outward remittances in transit (FC liabilitiesnet of FC assets)

Other demand and time liabilities (accrued interest,credit balances in suspense account etc. )


39/53

SLR

SLR is to be maintained in the form of thefollowing assets:

Cash balances (excluding balancesmaintained for CRR)

Gold (valued at price not exceedingcurrent market price)

Approved securities valued as per normsprescribed by RBI.


40/53

VaR

Value at Risk (VaR) is the most probable lossthat we may incur in normal market conditionsover a given period due to the volatility of afactor, exchange rates, interest rates or

commodity prices. The probability of loss isexpressed as a percentage VaR at 95%confidence level, implies a 5% probability ofincurring the loss; at 99% confidence level the

VaR implies 1% probability of the stated loss.The loss is generally stated in absolute amountsfor a given transaction value (or value of ainvestment portfolio).


41/53

VaR

The VaR is an estimate of potential loss, always for a givenperiod, at a given confidence level.. A VaR of 5p in USD /INR rate for a 30- day period at 95% confidence levelmeans that Rupee is likely to lose 5p in exchange valuewith 5% probability, or in other words, Rupee is likely todepreciate by maximum 5p on 1.5 days of the period(30*5% ) . A VaR of Rs. 100,000 at 99% confidence levelfor one week for a investment portfolio of Rs. 10,000,000similarly means that the market value of the portfolio is

most likely to drop by maximum Rs. 100,000 with 1%probability over one week, or , 99% of the time theportfolio will stand at or above its current value.


42/53

Exchange Rate Quotation

Exchange Quotations :

There are two methods

Exchange rate is expressed as the price per unit offoreign currency in terms of the home currency is known

as theHome currency quotation or Direct Quotation Exchange rate is expressed as the price per unit of home

currency in terms of the foreign currency is known astheForeign Currency Quotation or Indirect Quotation

Direct Quotation is used in New York and other foreignexchange markets and Indirect Quotation is used inLondon foreign exchange market.


43/53

Principles

Direct Quotation: Buy Low, Sell High:

The prime motive of any trader is to make profit. Bypurchasing the commodity at lower price and selling it ata higher price a trader earns the profit. In foreign

exchange, the banker buys the foreign currency at alesser price and sells it at a higher price.

Indirect Quotation: Buy High, Sell Low:

A trader for a fixed amount of investment would acquiremore units of the commodity when he purchases and forthe same amount he would part with lesser units of thecommodity when he sells.


44/53

Spot and Forward Transactions

A Bank agrees to buy from B Bank USD100000. The actual exchange ofcurrencies i.e. payment of rupees andreceipt of US Dollars, under the contractmay take place :

on the same day or

two days later or

some day later, say after a month.


45/53

Interpretation of Quotation

The market quotation for a currency consists ofthe spot rate and the forward margin. Theoutright forward rate has to be calculated by

loading the forward margin into the spot rate.For example US Dollar is quoted as under in theinter-bank market on a given day as under :

Spot 1 USD = Rs.44.1000/1300

Spot/November 0200/0500

Spot/December 1500/1800


46/53

TT Buying Rate

TT Buying Rate (TT stands for TelegraphicTransfer)

This is the rate applied when the transaction

does not involve any delay in realization of theforeign exchange by the bank. In otherwords, the nostro account of the bank wouldalready have been credited. The rate is

calculated by deducting from the inter-bankbuying rate the exchange margin asdetermined by the Bank.

Bill B i R


47/53

Bills Buying Rate

This is the rate to be applied when aforeign bill is purchased. When a bill ispurchased, the proceeds will be realized

by the Bank after the bill is presented tothe drawee at the overseas center. In thecase of a usance bill the proceeds will be

realized on the due date of the bill whichincludes the transit period and the usanceperiod of the bill.


48/53

Problem

You would like to import machinery from USAworth USD 100000

to be payable to the overseas supplier on 31st Oct

[a] Spot Rate USD = Rs.45.8500/8600

Forward PremiumSeptember 0.2950/3000

October 0.5400/5450

November 0.7600/7650

[b] exchange margin 0.125%[c] Last two digits in multiples of nearest 25 paise

Calculate the rate to be quoted by the bank ?


49/53

Solution

This is an example Forward Sale Contract .Inter Bank Spot Selling Rate Rs. 45.8600

Add Forward Margin .5450

--------------

46.4050

Add Exchange Margin .0580

---------------

Forward Rate 46.4630Rounded Off to multiple of 25 paise Rs.46.4625

Amount Payable to the bank Rs.46,46,250


50/53

Swap

A swap agreement between two partiescommits each counterparty to exchangean amount of funds, determined by a

formula, at regular intervals, until theswap expires.

In the case of a currency swap, there is an

initial exchange of currency and a reverseexchange at maturity.


51/53

Mechanics

Firm A needs fixed rate loan AAA rated

Firm B needs floating rate -A rated

Firm A enjoys an absolute advantageinboth credit markets.

11%9%

LIBOR+0.0%

LIBOR

+1%

Firm A Firm B

Fixed-rate

finance

Floating-rate

finance


52/53

Mechanics

STEP !

Firm A will borrow at Fixed rate 9%

Firm B will borrow at floating rate (LIBOR +1)%

STEP 2Firm A will pay Floating rate [LIBOR] to Firm B

Firm B will Pay Fixed rate [9.5%] only

GainNet interest cost LIBOR- .5%

Net Interest cost 9+[ 1%+0.5%]=10.5%


53/53

Mechanics

Gain

A B

Borrows at9.0%fixed

for 7 years

Borrows atLIBOR + 1%

floatingfor 7 years

9.5%

LIBOR

Interest payments to eachother in yearst1 tot7.

Caii Brm Module CD Ravi

Documents

Transcript of Caii Brm Module CD Ravi